In America’s debates on how to fix its budget woes, there are distant yet worrying echoes of Europe’s losing battle to generate the growth and revenue to meet its entitlement bills.

On Friday, public finance experts gathered in Washington by the Peter G Peterson Foundation said the Obama administration and congressional leaders were grappling seriously with only half the long-term problem, the revenue side.

“Spending is the crux of the problem," Volcker told the forum at the Newseum.

It was “going to take years" to get spending back to a sustainable relationship to gross domestic product, he said.

That’s in stark contrast to how newly re-elected President
Barack Obama
is approaching the challenge – primarily as a revenue problem, with Medicare and Social Security entitlement spending reform as afterthoughts.

There’s more agreement on how to resolve the fiscal cliff – the tax rises and spending cuts that would drag the US economy back into recession next year – but not on how much long-term tax and entitlements reform should be locked in to a short-term deal to level off the fiscal cliff.

Also on Friday, Obama met Republican and Democratic congressional leaders at the White House. They emerged saying nice things about the spirit of compromise while acknowledging the distance between them.

Related Quotes

Company Profile

The President and the Democrats want $US1.6 trillion in new revenue from allowing the Bush era tax cuts to expire for the top 2 per cent of earners and closing loopholes, while extending the tax cuts for the other 98 per cent of households to relieve about half the “fiscal cliff".

Republicans, led by House speaker John Boehner, are agreeable to about half that amount of new revenue – the same amount Boehner negotiated on last year before talks were scuttled – but want it to come from “tax reform".

By that they mean closing loopholes to raise more revenue and counting the growth in revenues due to reform-induced economic growth or “dynamic scoring".

This is hotly disputed. Most economists say its dividends are measurable but smaller than ardent supply-siders claim. Common sense suggests there must be something in well designed tax reform, but banking it in advance is risky. Obama’s Treasury is sceptical.

Boehner and the Republicans also insist on a locking a framework for reforms to slow growth in federal health programs Medicare and Medicaid and social security into the fiscal cliff deal.

This deal must be finalised before December 31, a tall order.

Boehner will have to show his restive caucus something in return for agreeing to tax rises on the Republicans’ sainted “job creators" and other top earners. Obama spoke as little as possible about entitlement reform during the election campaign, and only vaguely since.

He said last week he was ready to make “big commitments" towards budget repair, including entitlement reform. His budget includes savings from healthcare providers, not cuts to entitlements, co-payments and higher eligibility ages.

A senior official said this remained the administration’s view. House minority leader Nancy Pelosi was hostile to entitlement cuts when she spoke to reporters on Thursday. Senate majority leader Harry Reid ruled out cuts to social security.

“I don’t know why Republicans would be talking about raising taxes when there’s no agreement on spending," Alice Rivlin told the forum. “The fundamental problem is spending." There was also a problem of weak growth, which explained why revenues were so weak, she added. Federal spending was 23 per cent of GDP in fiscal 2012, well above the long-term average of 21 per cent, and is projected by the Congressional Budget Office to rise to 24.1 per cent by 2022.

Volcker said it should be kept at 21-22 per cent of GDP. Revenues were 15.7 per cent of GDP, projected to rise to 18.6 per cent in 2022, leaving a deficit of 5.5 per cent of GDP.

This raises another problem. Obama won re-election on a pledge that middle income households, those earning less than $250,000, would bear none of the cost of repairing federal finances. If he has a mandate for anything, it’s higher taxes on the rich, with a bias for higher rates rather than reforms that would lower rates and broaden the base by closing loopholes.

Greenspan said that, in the short run, concentrating tax cuts on middle income households supported growth because they spent more of their income. In the long run, slugging the rich might sap growth by crimping the savings of the rich, who were responsible for the bulk of national savings.

Savings were the source of capital investment, the fundamental ingredient of productivity and growth. Without growth, which was weak in this recovery, how would the federal government meet its entitlement obligations, he asked. Rivlin, Simpson, Bowles and Volcker all favoured lower tax rates and broader bases, too.

If the federal government has to keep borrowing to pay the bills, a crisis looms at some point. The fact that it seems distant now – that America is so much bigger and more liquid than Greece, Spain and Italy – is of little comfort. They were also reassured by the cheap rates at which they could borrow years ago, noted Rivlin and Greenspan.

“Borrowing indefinitely is a good recipe for a financial crisis," Volcker said.

“If we don’t do something about it we are going to have a problem," Rivlin said.